August Inflation Expected to Rise, Signaling Potential Pause in Interest Rate Cuts

Israel's Consumer Price Index (CPI) for August is projected to increase by 0.7% to 0.9%, according to market expectations. If these forecasts hold true, the annual inflation rate would rise to approximately 1.6% to 1.8%, placing it within the Bank of Israel's target range of 1% to 3% for price stability. The anticipated rise in the index is primarily attributed to transportation costs, with soaring international flight prices expected to contribute about 0.41% and a sharp increase in fuel prices adding over 0.2%. The transportation and communication component of the CPI is forecast to jump by 3.3%, boosting the overall index by 0.6%.

Despite the expected August increase, the market anticipates a decrease of 0.2% to 0.3% in the September CPI. This forecast is influenced by the Finance Minister's decision to reduce fuel excise taxes starting in September. The Bank of Israel recently lowered its benchmark interest rate to 3.25% in early September, with annual inflation at 1.5% for the preceding 12 months. This rate cut was priced in by markets with about 50% probability, driven by the declining inflation and an assessment of weaker domestic economic activity.

However, Bank of Israel Governor has indicated that inflation is expected to accelerate to around 2% in the coming months, suggesting that further interest rate cuts are unlikely at the next monetary policy meeting on October 21. The exchange rate has also played a role, with the shekel's recent stability and strength against major currencies helping to moderate import prices. Nevertheless, the shekel has weakened in the past month, and global interest rate hikes could diminish its supportive effect on price decreases.

Housing costs remain a significant concern, following a 0.7% increase in the housing component of the July CPI and sharp rises in rents for new contracts and renewals. The housing component is expected to rise by 0.5% to 0.6% in August, contributing 0.15% to the overall index. While August's CPI may be driven by flights and fuel, the Bank of Israel and market participants will closely monitor whether rent pressures ease or continue to hinder inflation reduction.

Analysts suggest that the projected inflation increase to 2% signals that the interest rate adjustment process is nearing its end, making further rate cuts less likely. The consensus forecast is that the Bank of Israel will likely hold interest rates steady at its October and possibly November meetings.